Question

1. What is the difference between private and social costs?

2. How can the government intervene to force consumers to internalize external costs associated with: a. negative externalities?

b. positive externalities?

3. Differentiate between a public good and common resources.

4. What are the advantages of a flat tax system?

Answer 1

1. Private costs do not include the externality due to a certain activity. For example, for a person who smokes, the cost of smoking is the cost of the cigerratte. This is the private cost. It does not include the externality associated with health effects on other people due to secondary smoking. Social costs would include the cost for the individual who is smoking as well as the costs on other around him/her.

2. a) Negative externalities: Government should tax such activities. Eg. pollution.
b) Positive externalities: Government should subsidise such activities. Eg. education

3. Public goods are non-rival i.e. its availability is not reduced when someone uses it. For example, defence.
Common resources are rival i.e. its availabilityis reduced when someone uses it. For example, fishing from an open access lake.

4. Advantages
a) It is simple
b) It will lead to higher compliance
c) It is fair